THE WAGES OF VIRTUAL SIN: Diminished trust in borrowing and lending

LORD POLONIUS
Neither a borrower nor a lender be;
For loan oft loses both itself and friend,
And borrowing dulls the edge of husbandry.
- from “Hamlet,” William Shakespeare, 1599/1601

Few of us have been following Lord Polonius’ advice. Credit is the lubricant of the modern economy. In the throes of a major financial collapse triggered by excessive credit formation we are being urged to spend and assume yet more debt to stimulate economic activity and job creation. If it is impossible to operate on a strict pay-as-you-go basis, the next best thing is to make sure you borrow from people or organizations you know and trust.

The relationship between borrower and lender has become so attenuated that even legal authorities have a hard time determining the identity of the lender. A lender of record on a mortgage may not be the property owner since the mortgage might have been bundled together with other such loans to form an asset base for a mortgage backed security that was sold to investors. “We don’t own the property,” [said] a spokesman [for a bank]. “We’re the owner of record, but the investors who bought the mortgage-backed securities own it” (NYT, March 8, 2009).

Borrowing from a known party, company or individual, entails a moral obligation to repay because the transaction is based on a relationship of mutual trust. Lending entails the complementary moral obligation to serve the borrower by delivering accurate accounting and record maintenance. Central to these complementary obligations is the relationship of trust between parties who are known to each other. Trust is rooted in human relationships and becomes attenuated when those relationships weaken. The perceived obligation of an individual to an organization is not generally as strong as to another individual, but certainly much stronger that it is to an unknown party. Obligation and trust evaporate completely when the unknown party is several levels of remove from the individual. This is precisely what has happened with borrowers and lenders in the housing boom that preceded the current economic crisis.

Securitization of loan portfolios – packaging loans such as mortgages and selling them to investors – is an instrument of metamanagement, designed to improve efficiency and profits by leveraging money. Such practices can drive a wedge between borrowers and lenders, attenuating the social bonds needed to motivate the parties to a financial transaction to discharge their respective obligations.